The tax reform bill that Congress is expected to vote on this week contains numerous changes that will affect businesses large and small. The “Tax Cuts and Jobs Act”, H.R. 1, would make sweeping modifications to the Internal Revenue Code, including a much lower corporate tax rate, changes to credits and deductions, and a move to a territorial system for corporations that have overseas earnings.

Here are many of the bill’s business provisions.

Corporate tax rate
The bill would replace the current graduated corporate tax rate, which taxes income over $10 million at 35%, with a flat rate of 21%. The House version of H.R. 1 had provided for a special 25% rate on personal service corporations, but that special rate does not appear in the final bill. The new rate would take effect Jan. 1, 2018.

Bonus depreciation: The bill would extend and modify bonus depreciation under Sec. 168(k), allowing businesses to immediately deduct 100% of the cost of eligible property in the year it is placed in service, through 2022. The amount of allowable bonus depreciation would then be phased down over four years: 80% would be allowed for property placed in service in 2023, 60% in 2024, 40% in 2025, and 20% in 2026. (For certain property with long production periods, the above dates would be pushed out a year.)

The bill would also remove the requirement that bonus depreciation is only available for new property.

Luxury automobile depreciation limits: The bill would increase the depreciation limits under Sec. 280F that apply to listed property. For passenger automobiles placed in service after 2017 and for which bonus depreciation is not claimed, the maximum amount of allowable depreciation is $10,000 for the year in which the vehicle is placed in service, $16,000 for the second year, $9,600 for the third year, and $5,760 for the fourth and later years.

Sec. 179 expensing: The bill would increase the maximum amount a taxpayer may expense under Sec. 179 to $1 million and increase the phaseout threshold to $2.5 million. These amounts would be indexed for inflation after 2018.

The bill would also expand the definition of Sec. 179 property to include certain depreciable tangible personal property used predominantly to furnish lodging or in connection with furnishing lodging. It would also expand the definition of qualified real property eligible for Sec. 179 expensing to include any of the following improvements to nonresidential real property: roofs; heating, ventilation, and air-conditioning property; fire protection and alarm systems; and security systems.

Accounting methods

Cash method of accounting: The bill would expand the list of taxpayers that are eligible to use the cash method of accounting by allowing taxpayers that have average annual gross receipts of $25 million or less in the three prior tax years to use the cash method. The $25 million gross-receipts threshold would be indexed for inflation after 2018. Under the provision, the cash method of accounting may be used by taxpayers, other than tax shelters, that satisfy the gross-receipts test, regardless of whether the purchase, production, or sale of merchandise is an income-producing factor.

Farming C corporations (or farming partnerships with a C corporation partner) would be allowed to use the cash method if they meet the $25 million gross-receipts test.

The current-law exceptions from the use of the accrual method would otherwise remain the same, so qualified personal service corporations, partnerships without C corporation partners, S corporations, and other passthrough entities would continue to be allowed to use the cash method without regard to whether they meet the $25 million gross-receipts test, so long as the use of such method clearly reflects income.

Inventories: Taxpayers that meet the cash method $25 million gross-receipts test would also not be required to account for inventories under Sec. 471. Instead, they would be allowed to use an accounting method that either treats inventories as nonincidental materials and supplies or conforms to their financial accounting treatment of inventories.

UNICAP: Taxpayers that meet the cash-method $25 million gross-receipts test would be exempted from the uniform capitalization rules of Sec. 263A. (Current-law exemptions from the UNICAP rules that are not based on gross receipts are retained in the law.)

Expenses and deductions

Interest deduction limitation: Under the bill, the deduction for business interest would be limited to the sum of (1) business interest income; (2) 30% of the taxpayer’s adjusted taxable income for the tax year; and (3) the taxpayer’s floor plan financing interest for the tax year. Any disallowed business interest deduction could be carried forward indefinitely (with certain restrictions for partnerships).

Any taxpayer that meets the $25 million gross-receipts test would be exempt from the interest deduction limitation. The limitation would also not apply to any real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade or business. Farming businesses would be allowed to elect out of the limitation.

For these purposes, business interest means any interest paid or accrued on indebtedness properly allocable to a trade or business. Business interest income means the amount of interest includible in the taxpayer’s gross income for the tax year that is properly allocable to a trade or business. However, business interest does not include investment interest, and business interest income does not include investment income, within the meaning of Sec. 163(d).

Floor plan financing interest means interest paid or accrued on indebtedness used to finance the acquisition of motor vehicles held for sale or lease to retail customers and secured by the inventory so acquired.

Net operating losses: The bill would limit the deduction for net operating losses (NOLs) to 80% of taxable income (determined without regard to the deduction) for losses. (Property and casualty insurance companies are exempt from this limitation.)

Taxpayers would be allowed to carry NOLs forward indefinitely. The two-year carryback and special NOL carryback provisions would be repealed. However, farming businesses would still be allowed a two-year NOL carryback.

Like-kind exchanges: Under the bill, like-kind exchanges under Sec. 1031 would be limited to exchanges of real property that is not primarily held for sale. This provision generally applies to exchanges completed after Dec. 31, 2017. However, an exception is provided for any exchange if the property disposed of by the taxpayer in the exchange is disposed of on or before Dec. 31, 2017, or the property received by the taxpayer in the exchange is received on or before that date.

Domestic production activities: The bill would repeal the Sec. 199 domestic production activities deduction.

Entertainment expenses: The bill would disallow a deduction with respect to (1) an activity generally considered to be entertainment, amusement, or recreation; (2) membership dues with respect to any club organized for business, pleasure, recreation, or other social purposes; or (3) a facility or portion thereof used in connection with any of the above items.

Qualified transportation fringe benefits: The bill would disallow a deduction for expenses associated with providing any qualified transportation fringe to employees of the taxpayer, and except as necessary for ensuring the safety of an employee, any expense incurred for providing transportation (or any payment or reimbursement) for commuting between the employee’s residence and place of employment.

Meals: Under the bill taxpayers would still generally be able to deduct 50% of the food and beverage expenses associated with operating their trade or business (e.g., meals consumed by employees on work travel). For amounts incurred and paid after Dec. 31, 2017, and until Dec. 31, 2025, the bill would expand this 50% limitation to expenses of the employer associated with providing food and beverages to employees through an eating facility that meets requirements for de minimis fringes and for the convenience of the employer. Such amounts incurred and paid after Dec. 31, 2025, would not be deductible.

Partnership technical terminations: The bill would repeal the Sec. 708(b)(1)(B) rule providing for technical terminations of partnerships under specified circumstances. The provision does not change the current-law rule of Sec. 708(b)(1)(A) that a partnership is considered as terminated if no part of any business, financial operation, or venture of the partnership continues to be carried on by any of its partners in a partnership.

Carried interests: The bill would provide for a three-year holding period in the case of certain net long-term capital gain with respect to any applicable partnership interest held by the taxpayer. It would treat as short-term capital gain taxed at ordinary income rates the amount of a taxpayer’s net long-term capital gain with respect to an applicable partnership interest if the partnership interest has been held for less than three years.

The conference report clarifies that the three-year holding requirement applies notwithstanding the rules of Sec. 83 or any election in effect under Sec. 83(b).

Amortization of research and experimental expenditures: Under the bill, amounts defined as specified research or experimental expenditures must be capitalized and amortized ratably over a five-year period. Specified research or experimental expenditures that are attributable to research that is conducted outside of the United States must be capitalized and amortized ratably over a 15-year period.

Year of inclusion: The bill would require accrual-method taxpayers subject to the all-events test to recognize items of gross income for tax purposes in the year in which they recognize the income on their applicable financial statement (or another financial statement under rules to be specified by the IRS). The bill would provide an exception for taxpay

Credits

The bill would modify a number of credits available to businesses. The House version of the bill would have repealed a large number of business credits, but the final bill generally does not repeal those credits. Changes to business credits in the final bill include:

Orphan drug credit: The amount of the Sec. 45C credit for clinical testing expenses for drugs for rare diseases or conditions would be reduced to 25% (from the current 50%).

Rehabilitation credit: The bill would modify the Sec. 47 rehabilitation credit to repeal the 10% credit for pre¬1936 buildings and retain the 20% credit for certified historic structures. However, the credit would be claimed over a five-year period.

Employer credit for paid family or medical leave: The bill would allow eligible employers to claim a credit equal to 12.5% of the amount of wages paid to a qualifying employee during any period in which the employee is on family and medical leave if the rate of payment under the program is 50% of the wages normally paid to the employee. The credit is increased by 0.25 percentage points (but not above 25%) for each percentage point by which the rate of payment exceeds 50%. The maximum amount of family and medical leave that may be taken into account with respect to any employee for any tax year is 12 weeks. However, the credit would only be available in 2018 and 2019.

Compensation

Covered employees: Sec. 162(m) limits the deductibility of compensation paid to certain covered employees of publicly traded corporations. Current law defines a covered employee as the chief executive officer and the four most highly compensated officers (other than the CEO). The bill would revise the definition of a covered employee under Sec. 162(m) to include both the principal executive officer and the principal financial officer and would reduce the number of other officers included to the three most highly compensated officers for the
tax year. The bill would also require that if an individual is a covered employee for any tax year (after 2016), that individual will remain a covered employee for all future years. The bill would also remove current exceptions for commissions and performance-based compensation.

The bill includes a transition rule so that the proposed changes would not apply to any remuneration under a written binding contract that was in effect on Nov. 2, 2017, and that was not later modified in any material respect.

Qualified equity grants: The bill would allow a qualified employee to elect to defer, for income tax purposes, the inclusion in income of the amount of income attributable to qualified stock transferred to the employee by the employer. An election to defer income inclusion with respect to qualified stock must be made no later than 30 days after the first time the employee’s right to the stock is substantially vested or is transferable, whichever occurs earlier.

Taxation of foreign income
The bill would provide a 100% deduction for the foreign-source portion of dividends received from “specified 10% owned foreign corporations” by domestic corporations that are U.S. shareholders of those foreign corporations within the meaning of Sec. 951(b). The conference report says that the term “dividend received” is intended to be interpreted broadly, consistently with the meaning of the phrases “amount received as dividends” and “dividends received” under Secs. 243 and 245, respectively.

A specified 10%-owned foreign corporation is any foreign corporation (other than a passive foreign investment company (PFIC) that is not also a controlled foreign corporation (CFC)) with respect to which any domestic corporation is a U.S. shareholder.

The deduction is not available for any dividend received by a U.S. shareholder from a CFC if the dividend is a hybrid dividend. A hybrid dividend is an amount received from a CFC for which a deduction would be allowed under this provision and for which the specified 10%-owned foreign corporation received a deduction (or other tax benefit) from any income, war profits, and excess profits taxes imposed by a foreign country.

Foreign tax credit: No foreign tax credit or deduction would be allowed for any taxes paid or accrued with respect to a dividend that qualifies for the deduction.

Holding period: A domestic corporation would not be permitted a deduction in respect of any dividend on any share of stock that is held by the domestic corporation for 365 days or less during the 731-day period beginning on the date that is 365 days before the date on which the share becomes ex-dividend with respect to the dividend.

Deemed repatriation: The bill generally requires that, for the last tax year beginning before Jan. 1, 2018, any U.S. shareholder of a specified foreign corporation must include in income its pro rata share of the accumulated post-1986 deferred foreign income of the corporation. For purposes of this provision, a specified foreign corporation is any foreign corporation in which a U.S. person owns a 10% voting interest. It excludes PFICs that are not also CFCs.

A portion of that pro rata share of foreign earnings is deductible; the amount of the deductible portion depends on whether the deferred earnings are held in cash or other assets. The deduction results in a reduced rate of tax with respect to income from the required inclusion of preeffective date earnings. The reduced rate of tax is 15.5% for cash and cash equivalents and 8% for all other earnings. A corresponding portion of the credit for foreign taxes is disallowed, thus limiting the credit to the taxable portion of the included income. The separate foreign tax credit limitation rules of current-law Sec. 904 apply, with coordinating rules. The increased tax liability generally may be paid over an eight-year period. Special rules are provided for S corporations and real estate investment trusts (REITs).

Foreign intangible income: The bill would provide domestic C corporations (that are not regulated investment companies or REITs) with a reduced tax rate on “foreign-derived intangible income” (FDII) and “global intangible low-taxed income” (GILTI). FDII is the portion of a domestic corporation’s intangible income that is derived from serving foreign markets, using a formula in a new Sec. 250. GILTI would be defined in a new Sec. 951A.

The effective tax rate on FDII would be 13.125% in tax years beginning after 2017 and before 2026 and 16.406% after 2025. The effective tax rate on GILTI would be 10.5% in tax years beginning after 2017 and before 2026 and 13.125% after 2025.

Definition of U.S. shareholder: The bill would amend the ownership attribution rules of Sec. 958(b) to expand the definition of “U.S. shareholder” to include a U.S. person who owns at least 10% of the value of the shares of the foreign corporation.

Year-end tax planning can provide most taxpayers with a good way to lower a tax bill that will otherwise be waiting for them when they file their 2017 tax return in 2018. Since tax liability is primarily keyed to each calendar tax year, once December 31, 2017 passes, your 2017 tax liability for the most part— good or bad– will mostly be set in stone.

Year-end 2017 presents a unique set of challenges for many taxpayers because of current efforts by Congress and the Trump Administration to enact tax reform legislation, the scope of which has not been seen since 1986, according to supporters. Whether this ambitious plan will be successful by the end of this year remains uncertain; but the reasons to prepare to maximize any benefits if it does happen are indisputable. Both talk of lower tax rates, and fewer deductions, requires careful monitoring at this time, with “contingency” plans ready to go before yearend should these changes occur retroactively to 2017, or starting in 2018, either immediately or under phased-in schedules.

Tax reform, although important, is not the only reason to engage in year-end tax planning this year. Other changes in the tax law, made by the IRS and the courts, have already taken place in 2017. Opportunities and pitfalls within these recent changes —as they impact each taxpayer’s unique situation—should not be overlooked. This particularly rings true as we approach year-end 2017.

Life-cycle changes. External influences such as changes in the tax law, however, may be only part of the reason for taking some action before year’s end. Changes in your personal and financial circumstances — marriage, divorce, a newborn, a change in employment, a new business venture, investment successes and downturns—may require a change-in-course tax-wise since last year. As with any ‘life-cycle” change, your tax return for this year may look entirely different from what it looked like for 2016. Accounting for that difference now, before year-end 2017 closes, should be an integral part of your year-end planning.

Other developments: How tax law has changed over the past year by the IRS, the Treasury Department and the courts should be integrated into specific 2017 year-end considerations. This strategy-focused review of 2017 events includes, among many other developments critical to year-end transactions:

Growing interest by the IRS in the responsibilities and liabilities of participants within the “sharing” or “gig” economy;

Disaster relief both through legislation and relaxed IRS compliance rules;

Timing rules. Timing, and the skilled use of timing rules to accelerate and defer certain income or deductions, is the linchpin of year-end tax planning. For example, timing year-end bonuses or year-end tax payments, or timing sales of investment properties to maximize capital gains benefits should be considered. So, too, sometimes fairly sophisticated “like-kind exchange,” “installment sale” or “placed in service” rules for business or investment properties come into play. In other situations, however, implementation of more basic concepts are just as useful. For example, taxpayers can write a check or can charge an item by credit card and treat these actions as payments. It often does not matter for tax purposes when the recipient receives a check mailed by the payer, when a bank honors the check, or when the taxpayer pays the credit card bill, as long as done or delivered “in due course.”

Please feel free to contact one of our Professional Tax Advisors if you have any questions about how year-end tax planning might help you save taxes. Our tax laws operate largely within the
confines of “the tax year.” Once 2017 is over, tax savings that are specific to this year may be gone forever.

Businesses should consider making expenditures that qualify for the business property expensing option. For tax years beginning in 2017, the expensing limit is $510,000 and the investment ceiling limit is $2,030,000. Expensing is generally available for most depreciable property (other than buildings), off-the-shelf computer software, air conditioning and heating units, and qualified real property—qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property. The generous dollar ceilings that apply this year mean that many small and midsized businesses that make timely purchases will be able to currently deduct most if not all their outlays for machinery and equipment. What’s more, the expensing deduction is not prorated for the time that the asset is in service during the year. The fact that the expensing deduction may be claimed in full (if you are otherwise eligible to take it) regardless of how long the property is held during the year can be a potent tool for year-end tax planning. Thus, property acquired and placed in service in the last days of 2017, rather than at the beginning of 2018, can result in a full expensing deduction for 2017.

Businesses also should consider making buying property that qualifies for the 50 percent bonus first year depreciation if bought and placed in service this year (the bonus percentage declines to 40 percent next year). The bonus depreciation deduction is permitted without any proration based on the length of time that an asset is in service during the tax year. As a result, the 50 percent first-year bonus write-off is available even if qualifying assets are in service for only a few days in 2017.

Businesses may be able to take advantage of the “de minimis safe harbor election” (also known as the book-tax conformity election) to expense the costs of lower-cost assets and materials and supplies, assuming the costs don’t have to be capitalized under the Code Sec. 263A uniform capitalization (UNICAP) rules. To qualify for the election, the cost of a unit of property can’t exceed $5,000 if the taxpayer has an applicable financial statement (AFS; e.g., a certified audited financial statement along with an independent CPA’s report). If there’s no AFS, the cost of a unit of property can’t exceed $2,500. Where the UNICAP rules aren’t an issue, consider purchasing such qualifying items before the end of 2017.

Businesses contemplating large equipment purchases also should keep a close eye on the tax reform plan being considered by Congress. The current version contemplates immediate expensing—with no set dollar limit—of all depreciable asset (other than building) investments made after Sept. 27, 2017, for a period of at least five years. This would be a major incentive for some businesses to make large purchases of equipment in late 2017.

If your business was affected by Hurricane Harvey, Irma, or Maria, it may be entitled to an employee retention credit for eligible employees.

A corporation should consider deferring income until 2018 if it will be in a higher bracket this year than next. This could certainly be the case if Congress succeeds in dramatically reducing the corporate tax rate, beginning next year.

A corporation should consider deferring income until next year if doing so will preserve the corporation’s qualification for the small corporation AMT exemption for 2017. Note that there is never a reason to accelerate income for purposes of the small corporation AMT exemption because if a corporation doesn’t qualify for the exemption for any given tax year, it will not qualify for the exemption for any later tax year.

A corporation (other than a “large” corporation) that anticipates a small net operating loss for 2017 (and substantial net income in 2018) may find it worthwhile to accelerate just enough of its 2018 income (or to defer just enough of its 2017 deductions) to create a small amount of net income for 2017. This will permit the corporation to base its 2018 estimated tax installments on the relatively small amount of income shown on its 2017 return, rather than having to pay estimated taxes based on 100% of its much larger 2018 taxable income.

If your business qualifies for the domestic production activities deduction for its 2017 tax year, consider whether the 50-percent-of-W-2 wages limitation on that deduction applies. If it does, consider ways to increase 2017 W-2 income, e.g., by bonuses to owner-shareholders whose compensation is allocable to domestic production gross receipts. Note that the limitation applies to amounts paid with respect to employment in calendar year 2017, even if the business has a fiscal year. Keep in mind that the DPAD wouldn’t be available next year under the tax reform plan currently before Congress.

Apparently reality TV shows are now providing tax advice! The number one questions across the country this year are from clients attending “real estate” seminars and being told to use their IRA to buy and flip homes. Technically legal, the use of an IRA to buy real property is a classic example of promoters misleading taxpayers into horrible tax problems. Here are listed some reasons why putting an IRA in real estate is such a bad idea.

Flipping houses in an IRA creates trade or business income inside the IRA. Trade or business income inside an IRA is subject to a 35% UBIT rate on profits >$1,000.

Performing maintenance on the property inside the IRA is a disqualified self-dealing transaction under IRC Sec. 4975(e)(2)(C) which then treats the IRA as if it has distributed the entire FMV of the property as a taxable distribution.

You cannot use it to buy an office building that you are going to use yourself, even if you pay fair rental value or it is treated as a complete withdrawal at FMV and subject to penalty if you are under 59 and 1/2.

You cannot use it to buy a vacation property if you plan on using it yourself, including at FMV. You can’t rent from it or to it, nor can your family!

If the real estate is leveraged with debt in the IRA and income from the leveraged amount (rental or sale) is taxed to the IRA as unrelated business income at 39.6%. Form 990-T is required and if tax is owed it is treated as a taxable distribution when paid!

If the IRA owes unrelated business income and the tax is paid out of the IRA it is treated as an early withdrawal subject to tax and potential penalty.

Owning real estate outside the IRA will generate capital gains on sale, while inside the IRA it creates ordinary income. (Just like with stock). Real estate sold at a loss outside the IRA is deductible, but real estate sold at a loss inside the IRA is not deductible.

Because land is considered an illiquid or non¬traditional investment it must be valued by the trustee or custodian every year.